Rotman Management — Spring 2017

14 / Rotman Management Spring 2017

by Karen Christensen

One of the world’s leading behavioural economists describes

the origins of the field, the ongoing battle between our two selves

and the efficiency of financial markets.

Thought Leader Interview:

You have described the goal of your research over the last
40 years as follows: “To introduce humans into Economics.”
Please explain.
The truth is, the people who populate Economics textbooks
bear very little resemblance to the humans we interact with on
a daily basis. Standard economic models describe people who
are as smart as the smartest economist, who are not affected
by emotion, and who have no issues with self-control. That’s
‘Homo Economicus’; I call them ‘Econs’ for short — and I truly
don’t know anybody like that. In reality, we do not have per-
fect willpower and we don’t always choose what is best for us
— which is why obesity and insufficient retirement savings are
so common today.

You have said that Daniel Kahneman and Amos Tversky’s
Prospect Theory provides a ‘template’ for the type of theo-
ries we need today. How so?
As indicated, we struggle to determine what is best for us in the
long run — and then, we struggle to have the willpower to imple-
ment that choice — especially if it entails delayed gratification.

We sorely need economic theories that account for this, and the

first such theory was Prospect Theory.

Traditionally, economists believed that every time we

make a choice, the net effect of the gains and losses involved

in that choice are somehow combined in our head to calculate

whether a particular choice is desirable or not. However, Pros-

pect Theory states that losses and gains are valued very differ-

ently by people — and this affects our decisions.

Simply put, we give losses far more weight than gains. So,

if you were to gain $100 from one transaction but lose $80 in

another, you would end up feeling worse off, even though you

are $20 ahead. When it came out [in 1979], the great thing

about Prospect Theory was that it proved that you could take a

scientific approach to human behaviour.

Describe how Daniel Kahneman — who went on to be named

a Nobel Laureate in Economic Sciences — became your men-

tor.

I first came across his work with the late Amos Tversky back in

1975. At the time, they were living in Israel, but I found out that ILLUSTRATION BY DELPHINE LEE